Chapter 24 Aggregate Demand Supply Model

*Ch24 Aggregate Demand Supply Model*

*Multiple Choice Questions*

*1.* _______________________ are economists who generally emphasize the importance of aggregate supply in determining the size of the macroeconomy over the _____________.

A. Keynesian economists; long run
B. Keynesian economists; short run
C. Neoclassical economists; long run
D. Neoclassical economists; short run

Answer: C Reference:

Explanation:

Type: Multiple Choice

*2.* Aggregate supply (AS) denotes the relationship between the __________________ that firms choose to produce and sell and the _________________, holding the price of inputs fixed.

A. total quantity; price level for output
B. type of goods; input price of raw materials
C. price of goods; number of employees
D. total inputs; types of goods

Answer: A Reference:

Explanation:

Type: Multiple Choice

*3.* The maximum quantity that an economy can produce, given its existing levels of labor, physical capital, technology, and institutions, is called:

A. real GDP.
B. potential GDP.
C. aggregate supply.
D. aggregate demand.

Answer: B Reference:

Explanation:

Type: Multiple Choice

*4.* The term ”full employment GDP” is synonymous with which of the following?

A. aggregate GDP
B. Keynesian zone
C. macroeconomic equilibrium
D. potential GDP

Answer: D Reference:

Explanation:

Type: Multiple Choice

*5.* In macroeconomics, _____________________ denotes the relationship between the total quantity of goods and services and the price level for output.

A. macroeconomic equilibrium
B. aggregate supply (AS)
C. aggregate demand (AD)
D. potential GDP

Answer: C Reference:

Explanation:

Type: Multiple Choice

*6.* _________________ results when an economy experiences high unemployment and high inflation at the same time.

A. Stagflation
B. Deflation
C. Reflation
D. Recession

Answer: A Reference:

Explanation:

Type: Multiple Choice

*7.* Say’s Law argues that a given ____________________ must create an equivalent ________________________ somewhere else in the economy.

A. potential GDP; value of supply
B. total quantity of goods; price level for output
C. natural rate of unemployment; full employment GDP
D. value of supply; value of demand

Answer: D Reference:

Explanation:

Type: Multiple Choice

*8.* When the economy of a country is operating close to its full capacity:

A. the unemployment rate is greater than the natural rate of unemployment.
B. cyclical unemployment is close to zero.
C. unemployment is close to zero.
D. the unemployment rate is less than the natural rate of unemployment.

Answer: B Reference:

Explanation:

Type: Multiple Choice

*9.* Potential GDP in the U.S. will be unaffected by ____________________.

A. technology
B. the amount of capital available
C. the unemployment rate
D. government institutions

Answer: C Reference:

Explanation:

Type: Multiple Choice

*10.* Refer to the graph above. A government creating economic policy in these circumstances should be most concerned about:

A. unemployment but not inflation.
B. inflation but not unemployment.
C. inflation and unemployment.
D. neither inflation nor unemployment.

Answer: A Reference:

Explanation:

Type: Multiple Choice

*11.* Referring to the above diagram, which of the following is a true statement?

A. Macroeconomic policy will be needed to address rising inflation.
B. There is sufficient aggregate demand to cause inflationary pressures.
C. The equilibrium in the economy is at a level of output above full employment.
D. There is insufficient aggregate demand to reach full employment.

Answer: D Reference:

Explanation:

Type: Multiple Choice Category: Evaluate

*12.* The graph above reflects a significant increase in world oil prices. What will the impact on aggregate supply most likely lead to?

A. an increase in economic growth
B. an increase in input prices
C. a decrease in the natural unemployment rate
D. less inflationary pressures

Answer: B Reference:

Explanation:

Type: Multiple Choice

*13.* The graph above refers to a significant increase in individual income taxes, taking them to their highest level in 50 years. Which of the following is likely to result?

A. cyclical unemployment will decrease
B. inflationary pressures will be greater
C. the economy will experience lower economic growth
D. input prices will rise in the short run

Answer: C Reference:

Explanation:

Type: Multiple Choice

*14.* The graph above refers to a significant increase in oil prices. Which of the following is likely to result?

A. long run economic gains
B. short run economic gains
C. natural rate of unemployment remains constant
D. a rise in inflation from 2.0% to 3.0%

Answer: D Reference:

Explanation:

Type: Multiple Choice

*15.* The graph above refers to a significant increase in individual income taxes, taking them to their highest level in 50 years. Which of the following is likely to result?

A. unemployment is likely to rise
B. natural rate of unemployment is likely to fall
C. lower inflationary pressures
D. short run increase in economic growth

Answer: A Reference:

Explanation:

Type: Multiple Choice

*16.* The following table shows the aggregate supply and demand data for a country.

Price Level
Aggregate Demand
Aggregate Supply
100
10,000
4,000
200
9,000
5,000
300
8,000
5,000
400
7,000
7,000
500
6,000
8,500
600
5,000
9,000
700
4,000
9,500

What is the equilibrium output?

A. 8,000
B. 4,000
C. 7,000
D. 9,000

Answer: C Reference:

Explanation:

Type: Multiple Choice

*17.* The following table shows the aggregate supply and demand data for a country.

Price Level
Aggregate Demand
Aggregate Supply
200
10,000
4,000
300
9,000
6,000
400
8,000
8,000
500
7,000
9,000
600
6,000
9,500
700
5,000
9,800
800
4,000
9,900

What is the equilibrium price level?

A. 200
B. 400
C. 500
D. 800

Answer: B Reference:

Explanation:

Type: Multiple Choice

*18.* The following table shows the initial aggregate supply and demand data for a country.

Price Level
Aggregate Demand
Aggregate Supply
200
10,000
4,000
300
9,000
6,000
400
8,000
8,000
500
7,000
9,000
600
6,000
9,500
700
5,000
9,800
800
4,000
9,900

If input prices rise and AS shifts to the left by 2,000 units at each price level, what output level will equal the new equilibrium price?

A. 6000
B. 2000
C. 8000
D. 7000

Answer: D Reference:

Explanation:

Type: Multiple Choice

*19.* The following table shows the aggregate supply and demand data for a country. If input prices decrease and AS shifts to the right by 3,000 units at each price level.

Price Level
Aggregate Demand
Aggregate Supply
200
10,000
4,000
300
9,000
6,000
400
8,000
8,000
500
7,000
8,500
600
6,000
9,000
700
5,000
9,500
800
4,000
10,000

What will the new price equal?

A. 600
B. 800
C. 300
D. 400

Answer: A Reference:

Explanation:

Type: Multiple Choice

*20.* Economic production has fallen to less than full potential due to inadequate incentives for firms to produce. The duration of this economic condition will likely be:

A. indefinite
B. unknown
C. long-term
D. short-term

Answer: D Reference:

Explanation:

Type: Multiple Choice

*21.* If Keynes’ law applies during economic contractions and Say’s law applies during economic expansion, how will the three goals of macroeconomics be affected?

A. determinates of total supply for the economy will be traded-off
B. trade-offs and connections may differ in the short run and the long run
C. the economy will face genuine limits to how much can be produced
D. institutional and market structures will connect factors of production

Answer: B Reference:

Explanation:

Type: Multiple Choice

*22.* If the price level of what firms produce is rising across an economy, but the costs of production are constant, then:

A. the maximum potential GDP will be exceeded.
B. increase in quantity produced won’t be large.
C. a majority of industries will start running into limits.
D. higher profits will induce expanded production.

Answer: D Reference:

Explanation:

Type: Multiple Choice

*23.* _______________________ happens when the economy is producing at its potential and unemployment is at the natural rate of unemployment.

A. The foreign price effect
B. Stagflation
C. Full employment GDP
D. The interest rate effect

Answer: C Reference:

Explanation:

Type: Multiple Choice

*24.* What term is used to describe the maximum quantity that an economy can produce, in the context of its existing inputs, market and legal institutions?

A. GDP deflator
B. AS curve
C. potential GDP
D. aggregate supply

Answer: C Reference:

Explanation:

Type: Multiple Choice

*25.* In an AD/AS model, the point where the economy has excess capacity is called the:

A. Keynesian zone of the AS curve
B. intermediate zone of the AS curve
C. neoclassical zone of the AS curve
D. crossing point of the potential GDP line

Answer: A Reference:

Explanation:

Type: Multiple Choice

*26.* In an AD/AS model:

A. the GDP deflator always slopes upwards.
B. the potential GDP always slopes downwards.
C. the CPI is shown on the vertical axis.
D. real GDP is shown on the horizontal axis.

Answer: D Reference:

Explanation:

Type: Multiple Choice

*27.* Which of the following must be present in order for the aggregate supply curve to form an upward slope?

A. the lure of higher profits to induce continued production
B. fixed cost of inputs combined with rising prices for outputs
C. rise in aggregate quantity of supplied goods and services
D. constant price level for intermediate goods and services

Answer: B Reference:

Explanation:

Type: Multiple Choice

*28.* When prices of outputs in an economy become sufficiently high causing production to exceed potential GDP, the resulting:

A. hyper-intense production will be unsustainable in the long run.
B. higher wages will encourage workers to produce more at high prices.
C. lower prices will lead to a lower quantity of demand.
D. downward slope in aggregate supply curve will be short run.

Answer: A Reference:

Explanation:

Type: Multiple Choice

*29.* Due to inflationary pressures, the national income of households has been spread across a higher overall price base for goods and services. How will this affect be shown in an AD/ASAD/AS model?

A. nearly vertical AS slope at the far right
B. nearly horizontal AD curve at the far left
C. a downward sloping AD curve
D. a downward sloping AS curve

Answer: C Reference:

Explanation:

Type: Multiple Choice

*30.* The ____________ describes a situation where sufficient credit is available, but the economy experiences a reduction in consumption and investment.

A. inflation rate effect
B. interest rate effect
C. wealth effect
D. price effect

Answer: B Reference:

Explanation:

Type: Multiple Choice

*31.* Why is productivity growth considered to be the most important factor in the AD/ASAD/AS model?

A. it shifts the AD curve in the long-term
B. it shifts the AD curve in the short-term
C. it shifts the AS curve in the short-term
D. it shifts the AS curve in the long-term

Answer: D Reference:

Explanation:

Type: Multiple Choice

*32.* Changes in the price level of the different components of aggregate demand are reflected in the AD/ASAD/AS macroeconomic model by a ________________________.

A. flatter top portion of AD curve
B. longer distance to equilibrium point
C. downward sloping AD curve
D. shorter distance to equilibrium point

Answer: C Reference:

Explanation:

Type: Multiple Choice

*33.* Which of the following will have the greatest influence on the slope of the demand curve in a single market model?

A. wealth effects
B. substitute goods
C. full employment
D. higher wages

Answer: B Reference:

Explanation:

Type: Multiple Choice

*34.* As the aggregate price level in an economy rises, ____________________.

A. interest rates increase
B. consumer demand increases
C. exports decrease
D. investment increases

Answer: A Reference:

Explanation:

Type: Multiple Choice

*35.* As the aggregate price level in an economy decreases,

A. investment decreases.
B. consumer demand decreases.
C. interest rates decrease.
D. imports decrease.

Answer: D Reference:

Explanation:

Type: Multiple Choice

*36.* Aggregate demand curves slope downwards for each of the following reasons EXCEPT

A. The wealth effect: As the price level falls, the buying power of people’s savings increases and induces them to spend more.
B. The substitution effect: As the price level falls, people buy more of the cheaper goods and less of other goods.
C. The interest rate effect: As prices for outputs rise, it costs more to make the same purchases, driving up the demand for money, raising interest rates and reducing investment spending.
D. The foreign price effect: As the price level falls, U.S. become more attractive to foreigners and domestic residents, increasing net export spending.

Answer: B Reference:

Explanation:

Type: Multiple Choice

*37.* Aggregate supply curves are ________________________ for low levels of output, and ____________________________ for high levels of output.

A. relatively flat; remain flat
B. relatively steep; remain steep
C. relatively flat; relatively steep
D. relatively steep; relatively flat

Answer: C Reference:

Explanation:

Type: Multiple Choice

*38.* In an AD/ASAD/AS diagram, __________________________ could explain a rise in cyclical unemployment?

A. a shift to the left in either AS or AD
B. a shift in AS to the left
C. a shift in AS to the right
D. a shift in AD to the left

Answer: A Reference:

Explanation:

Type: Multiple Choice

*39.* In an AD/AS diagram, an increase in structural unemployment will:

A. shift AS to the right.
B. have no effect on AS or AD.
C. shift AS to the left.
D. shift AD to the left.

Answer: B Reference:

Explanation:

Type: Multiple Choice

*40.* When an economy’s output increases and the price level decreases, the _________ curve has shifted to the ____________.

A. AS; left
B. AD; left
C. AD; right
D. AS; right

Answer: D Reference:

Explanation:

Type: Multiple Choice

*41.* Whether the economy is in a recession is illustrated in the AD/AS model by how close the _____________________ is to the potential GDP line.

A. AS curve
B. AD curve
C. equilibrium
D. AS and AD curve

Answer: C Reference:

Explanation:

Type: Multiple Choice

*42.* The __________________ in an AD/AS diagram is most relevant to Keynes’s Law.

A. AS curve
B. flat portion of the AS curve
C. AD curve
D. steep portion of the AS curve

Answer: B Reference:

Explanation:

Type: Multiple Choice

*43.* The ____________________ in an AD/AS diagram is most relevant to Say’s Law.

A. steep portion of the AS curve
B. AS curve
C. AD curve
D. flat portion of the AS curve

Answer: A Reference:

Explanation:

Type: Multiple Choice

*44.* The _________________ means that a higher price level leads to lower real wealth.

A. employment effect
B. interest rate effect
C. wealth effect
D. foreign price effect

Answer: C Reference:

Explanation:

Type: Multiple Choice

*45.* The _____________ holds that a rise in price level will make domestic goods relatively more expensive, ____________ exports and _______________ imports.

A. interest rate effect; encouraging; discouraging
B. employment effect; discouraging; encouraging
C. wealth effect; encouraging; discouraging
D. foreign price effect; discouraging; encouraging

Answer: D Reference:

Explanation:

Type: Multiple Choice

*46.* Melanie decided to save 20% of her annual earnings for 10 years so she would have a down payment for a house. After 5 years, what change in the economy would cause an increase in the purchasing power of the funds she has managed to save?

A. recession
B. depression
C. deflation
D. stagflation

Answer: C Reference:

Explanation:

Type: Multiple Choice

*Essay Questions*

*1.* Briefly describe the situation in an economy during a recession.

A recession is a situation in which the economy as a whole is shrinking in size and business failures outnumber the remaining success stories over the course of a few months or a few years. As a result of this lack of demand, many firms end up suffering losses and laying off workers.

Reference:

Explanation:

Type: Essay

*2.* Briefly describe the two conclusions that can be drawn from an overview of Say’s Law with its emphasis on macroeconomic supply and Keynes’ Law with its emphasis on macroeconomic demand.

The first conclusion is that an economic approach that focuses only on the supply side or only on the demand side can only be a partial success. Both supply and demand need to be taken into account.

The second conclusion is that since Keynes’ law applies more accurately in the short run and Say’s law applies more accurately in the long run, the trade-offs and connections between the four goals of macroeconomics may be different in the short run and the long run.

Reference:

Explanation:

Type: Essay

*3.* Briefly explain the purpose of an AS curve and describe the characteristics of a typical AS curve.

The AS curve is used in an aggregate supply-aggregate demand model to describe how suppliers will react to a higher price level for final outputs of goods and services, while holding the prices of inputs like labor and energy constant. The slope of an AS curve changes from nearly flat at its far left to nearly vertical at its far right.

Reference:

Explanation:

Type: Essay

*4.* Briefly explain what is meant by the term “potential GDP,” and identify the alternative term that is considered to be synonymous from a macroeconomic perspective with “potential GDP.”

Potential GDP is defined as the maximum quantity that an economy can produce given its existing levels of labor, physical capital, and technology, in the context of its existing market and legal institutions. Potential GDP is also called full-employment GDP.

Reference:

Explanation:

Type: Essay

*5.* Briefly explain what an aggregate demand curve shows and what it is comprised of. Describe the shape of the demand curve and briefly explain the reasons behind this shape.

The aggregate demand (AD) curve shows the total quantity of goods and services that will be demanded at each price level. The AD curve includes all five parts of demand: consumption, investment, government spending, exports, and imports.

The AD curve slopes down, which means that increases in the price level of outputs lead to a lower quantity of aggregate demand. The reasons behind this shape are related to how changes in the price level affect the different components of aggregate demand: C + I + G + X – M.

Reference:

Explanation:

Type: Essay

*6.* Briefly discuss the wealth effect.

The wealth effect holds that as the price level increases, the buying power of wealth that people have stored up in bank accounts and cash will diminish, eaten away to some extent by inflation. Because a rise in the price level reduces people’s wealth, consumption will fall as the price level rises.

Reference:

Explanation:

Type: Essay

*7.* Briefly discuss the interest rate effect.

The interest rate effect is that as prices for outputs rise, it will be necessary for people making purchases to have more money or credit. This additional demand for money and credit will push interest rates higher. In turn, higher interest rates mean less borrowing by businesses for investment purposes and less borrowing by households for homes and cars—and thus a reduction in consumption and investment.

Reference:

Explanation:

Type: Essay

*8.* Briefly discuss the foreign price effect in relation to the U.S. economy.

The foreign price effect points out that if prices rise in the United States while remaining fixed in other countries, then goods in the United States will be relatively more expensive compared to goods in the rest of the world. U.S. exports will be relatively more expensive, and the quantity of exports sold will fall. Imports from abroad will be relatively cheaper, so the quantity of imports will rise. Thus, a higher domestic price level, relative to price levels in other countries, will be associated with a lower GDP.

Reference:

Explanation:

Type: Essay

*9.* Identify the most important factor shifting the AS curve in the long term. Briefly explain both how and why this factor shifts the aggregate supply curve.

In the long term, the most important factor shifting the AS curve is productivity growth. A higher level of productivity shifts the AS curve to the right, because with improved productivity, firms can now produce a greater quantity at every given price level for output.

Reference:

Explanation:

Type: Essay

*10.* Briefly discuss what consumer and business confidence in the economy typically reflects and provide examples. Contrast the effects of high consumer and business confidence with low levels of the same. Briefly explain how a rise in confidence will be reflected in the aggregate supply-aggregate demand model.

Consumer and business confidence often reflect macroeconomic realities; for example, confidence is usually high when the economy is growing briskly and low during a recession. However, economic confidence can sometimes rise or fall for reasons that do not have a close connection to the immediate economy, like a risk of war, election results, foreign policy events, or a pessimistic prediction about the future by a prominent public figure.

When consumers feel more confident about the future of the economy, they tend to consume more. If business confidence is high, then firms tend to invest more, believing that the future payoff to those investments will be substantial. Conversely, if consumer or business confidence drops, then consumption and investment decline.

Because a rise in confidence is associated with higher consumption and investment demand, it will lead to an outward shift in the AD curve, and a move of the equilibrium from E0 to E1 to a higher quantity of output and a higher price level

Reference:

Explanation:

Type: Essay

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